How to Withdraw Money from Your 401(k) Early

It can be done, but do it only as a last resort

If your employer allows it, it’s possible to get money out of a 401(k) plan before age 59½. Taking that route is not always advisable, though, as early withdrawals deplete retirement savings permanently and, minus a few exceptions, carry a 10% penalty and a substantial income tax bill.

If you have no better alternatives and decide to proceed, you’ll need to get in touch with your human resources department. They’ll give you some paperwork to fill out and then ask you to provide some documentation. Once that’s done, you should eventually receive a check with the requested funds.

Key Takeaways

  • Taking an early withdrawal from your 401(k) should only be done only as a last resort.
  • If you are under age 59½, in most cases you will incur a 10% early withdrawal penalty and owe regular income taxes on the amount taken out.
  • Under certain limited circumstances, a withdrawal without penalty is permitted, but income taxes will still be due on the withdrawal.
  • A better option may be to take out a loan from your 401(k) and repay it over time with a payroll deduction.

Can You Withdraw Money from a 401(k) Early?

Not every employer allows early 401(k) withdrawals, so the first thing you need to do is check with your human resources department to see if the option is available to you.

If the answer is yes, you will need to determine the type of withdrawal that you want to make, fill out the necessary paperwork, and provide the requested documents. The paperwork and documents will vary depending on your employer and the reason for the withdrawal, but when all the paperwork has been submitted, you will receive a check for the requested funds, hopefully without having to pay the 10% penalty.

Withdrawing money early from your 401(k) can carry serious financial penalties, so the decision should not be made lightly. It really should be a last resort.

401(k) Early Withdrawal Penalties

There are financial consequences for withdrawing money from a 401(k) early. Aside from owing regular income taxes on the money withdrawn, the person will also owe a 10% tax penalty on the amount withdrawn if they are under age 59½, except in the following special cases:

  • It qualifies as a hardship withdrawal under Internal Revenue Service (IRS) rules
  • It qualifies as an exception to the penalty under IRS rules
  • You need it for COVID-19-related costs

$6,300

The approximate amount you will clear on a $10,000 withdrawal from a 401(k) if you are under age 59½ and subject to a 10% penalty and taxes.

Exceptions to the Penalty: Hardship Withdrawal

The IRS permits withdrawals without a penalty for “immediate and heavy financial needs.” Don’t guess. Check the current IRS rules to see whether your reason for withdrawing money is likely to be deemed a hardship withdrawal.

The IRS permits withdrawals without a penalty for certain specific uses. These include a down payment on a first home, qualified educational expenses, and medical bills, among other costs.

You may also withdraw up to $5,000 without penalty to pay expenses related to the birth or adoption of a child under the terms of the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019. Keep in mind that you’ll still owe income taxes on that money. If it is a traditional individual retirement account (IRA), you’ll owe taxes on the entire withdrawal. If it is a Roth IRA, you’ll owe taxes only on the profits that accumulate in the account because you’ve paid in after-tax money.

With a hardship withdrawal, you will still owe the income taxes on that money, but you won’t owe a penalty.

There is currently one more permissible hardship withdrawal, and that is for costs directly related to the COVID-19 pandemic.

COVID-19 Exception

The Coronavirus Aid, Relief, and Economic Security (CARES) Act allowed individuals affected by the coronavirus pandemic to take a distribution of up to $100,000 from a 401(k) account, provided that their employers adopted the distribution rules of the act. The act not only waived the 10% tax penalty on such distributions but also allowed anyone who takes a distribution to pay the taxes due on it over a three-year period.

In addition, if you repay the distribution in part or in full within three years, you can recoup the taxes you paid on it by filing amended federal tax returns.

If your only option is a 401(k) withdrawal, avoid the 10% penalty by making sure that your withdrawal qualifies with the IRS as a hardship or an exception.

Early 401(k) Withdrawal Alternatives

If you are in need of cash, there are other options you may consider before making an early 401(k) withdrawal.

Borrowing from a 401(k)

Generally, it’s better to take a 401(k) loan than to make an early withdrawal. Essentially, you’re loaning money to yourself, with a commitment to paying it back.

Instead of losing a portion of your investment account forever—as you would with a withdrawal—a loan allows you to replace the money, which you can do through payments deducted from your paycheck.

You’ll have to check if your plan offers loans, as well as if you’re eligible.

You might also consider obtaining a personal loan elsewhere, such as through a bank.

Substantially Equal Periodic Payments (SEPP)

Substantially equal periodic payments (SEPPs) are another option for withdrawing funds without paying the early distribution penalty if the funds are in an IRA rather than a company-sponsored 401(k) account.

SEPP withdrawals are not permitted under a qualified retirement plan if you are still working for your employer. However, if the funds are coming from an IRA, you may start SEPP withdrawals at any time.

SEPP withdrawals are not the best idea if your financial need is short term. When starting SEPP payments, you must continue for a minimum of five years or until you reach age 59½, whichever comes later. Otherwise, the 10% early penalty still applies, and you will owe interest on the deferred penalties from prior tax years.

There is an exception to this rule for taxpayers who die (for beneficiary withdrawals) or become permanently disabled.

SEPP must be calculated using one of three methods approved by the IRS: fixed amortization, fixed annuitization, or required minimum distribution (RMD). Each method will calculate different withdrawal amounts, so choose the one that is best for your financial needs.

What are the penalty-free exceptions for an early individual retirement account (IRA) withdrawal?

The Internal Revenue Service (IRS) permits withdrawals without a penalty for certain specific uses, including to cover college tuition and to pay the down payment on a first home. It terms these “exceptions,” but they also are exemptions from the penalty it imposes on most early withdrawals.

It also allows hardship withdrawals to cover an immediate and pressing need.

There is currently one more permissible hardship withdrawal: for costs directly related to the COVID-19 pandemic.

You’ll still owe regular income taxes on the money withdrawn, but you won’t get slapped with the 10% early withdrawal penalty.

How much tax do I pay on an early 401(k) withdrawal?

The money will be taxed as regular income. That’s from 10% to 37%, depending on your total taxable income. In most cases, that money will be due for the tax year in which you take the distribution.

The exception is for withdrawals taken for expenses related to the coronavirus pandemic. In response to the coronavirus pandemic, account owners have been given three years to pay the taxes they owe on distributions taken for economic hardships related to COVID-19.

What are the pros and cons of withdrawal vs. a 401(k) loan?

A withdrawal is a permanent hit to your retirement savings. By pulling out money early, you’ll miss out on the long-term growth that a larger sum of money in your 401(k) would have yielded. Though you won’t have to pay the money back, you will have to pay the income taxes due, along with a 10% penalty if the money does not meet the IRS rules for a hardship or an exception.

A loan against your 401(k) has to be paid back. If it is paid back in a timely manner, at least you won’t lose much of that long-term growth in your retirement account.

The Bottom Line

If you want to make a withdrawal from your 401(k), speak to your human resources department first. They’ll let you know if it’s an option and provide you with all the necessary paperwork you need to fill out to make it happen.

Article Sources
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  1. Internal Revenue Service. “Topic No. 424 401(k) Plans.”

  2. Internal Revenue Service. “401(k) Resource Guide—Plan Sponsors—General Distribution Rules: Tax on Early Distributions.”

  3. Internal Revenue Service. “Retirement Topics—Hardship Distributions.”

  4. Internal Revenue Service. “Retirement Topics—Exceptions to Tax on Early Distributions.”

  5. Internal Revenue Service. “Coronavirus-Related Relief for Retirement Plans and IRAs Questions and Answers.”

  6. Congress.gov, U.S. Congress. “H.R.1994—Setting Every Community Up for Retirement Enhancement Act of 2019: Text: Sec. 113.”

  7. Internal Revenue Service. “Coronavirus Relief for Retirement Plans and IRAs.”

  8. Internal Revenue Service. “401(k) Resource Guide—Plan Participants—General Distribution Rules.”

  9. Internal Revenue Service. “Substantially Equal Periodic Payments: 2. Is There Guidance on This Exception?

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